MODULE 4

UNEMPLOYMENT
4.1 Measurement of Unemployment

Unemployment is the state of the economy where some people who are able and
willing to work are not employed in the production of goods and services.

For the purpose of measuring unemployment, the population can be divided into
the working-age population and the non-working-age population. In Singapore, the
working-age population refers to those who are 15 years of age and over. The
working-age population can be further divided into the economically active
population, which is also called the labor force, and the economically inactive
population. The labor force refers to those who are 15 years of age and over (i.e.
working-age population), who are able and willing to work, and are either employed
or actively seeking employment.

The unemployment rate is the unemployed expressed as a percentage of the labor

force.

Unemployed

Unemployment Rate = ————————– × 100%

Labor Force

The labor force participation rate is the labor force expressed as a percentage of the
working-age population.

Labor Force

Labor Force Participation Rate = ———————————– × 100%

Working-age Population

Note: According to the International Labor Organization (ILO), the unemployed

are persons of working age who are without work, are available to start work within
two weeks and either have actively looked for work in the last four weeks or are
waiting to take up an appointment. However, students need not discuss this in the
examination.

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4.2 Causes of Unemployment

There are four causes of unemployment: demand-deficient/cyclical

unemployment, structural unemployment, frictional unemployment and seasonal
unemployment.

Demand-deficient/Cyclical Unemployment

Demand-deficient unemployment, or cyclical unemployment, refers to

unemployment which occurs due to a deficiency in demand. A deficiency in demand
usually occurs when aggregate demand falls or when aggregate demand rises at a
slow rate relative to the size of the labor force. When aggregate demand falls, firms
will decrease production which will lead to a decrease in the demand for labor in the
economy. As real wages are inflexible downwards due to factors such as the existence
of employment contracts, trade unions protecting the standards of living of their
members and firms unwilling to lower real wages to avoid decreasing the productivity
of their workers, a decrease in the demand for labor in the economy will lead to
demand-deficient unemployment.

To reduce demand-deficient unemployment, the government can use policies to

increase aggregate demand. These policies will be explained in greater detail in later
chapter

Structural Unemployment

Structural unemployment refers to unemployment which occurs due to a change

in the structure of the economy. The structure of the economy changes when some
industries expand and some industries contract and this may be due to technological
advancements, changes in comparative advantage or changes in the pattern of demand.
When this happens, the expanding industries which are typically high value-added
industries will create jobs and the contracting industries which are typically low
value-added industries will lose jobs. However, as workers who will lose their jobs in
the contracting industries possess low skills, they will not have the relevant skills and
knowledge to find jobs in the expanding industries which require high skills and this
will lead to structural unemployment. Structural unemployment always exists.

There are three main causes of structural unemployment in Singapore:

globalization, technological advancement and economic restructuring. Globalization
refers to the increased integration of economies through an increase in flows of goods
and services, capital and labor across international borders. The production of low
value-added goods such as disk drives requires low-skilled labor. Singapore has a
comparative disadvantage in producing low value-added goods due to the small
amount of low-skilled labor. Therefore, globalization has led to a more rapid decline
in the low value-added industries. For example, the relocation of manufacturing plants
by firms that produced low value-added goods in Singapore, such as Hitachi, Sanyo
and Seagate, to China where the cost of production was lower caused the low
value-added industries in Singapore to decline at a faster rate. As a result, the rate at
which low-skilled workers are laid off has increased which has led to a rise in
structural unemployment. Globalization will be explained in greater detail in Chapter
13. Singapore had been pursuing the labor-driven economic growth strategy for

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decades which had greatly contributed to economic growth. However, the
labor-driven economic growth strategy requires the support of a loose foreign worker
policy which will lead to rising population. As Singapore is a small country with a
small land area of slightly over seven hundred square kilometers, rising population
will exert a strain on the country’s infrastructure which may lead to problems such as
severe traffic congestion, crowded public buses and trains and rapid rises in housing
prices. Therefore, the labor-driven economic growth strategy is unsustainable in
Singapore. In contrast, as the productivity-driven economic growth strategy will not
lead to rising population, the small land area of Singapore is not a constraint for this
strategy. Therefore, the Singapore government has been restructuring the economy
from one which is labor-driven to one which is productivity-driven over the last few
years. To increase labor productivity in the economy, the Singapore government has
been increasing the skills and knowledge of labor in the economy through education
and training. In addition, it has been increasing the efficiency of capital in the
economy through research and development and encouraging firms to adopt better
production technologies. Research and development will lead to technological
advancement. Technological advancement and adoption of better production
technologies will increase the efficiency of capital in the economy which will lead to
a rise in labor productivity in the economy. However, technological advancement and
adoption of better production technologies will lead to losses of low-skilled jobs
which will result in a rise in structural unemployment. Therefore, economic
restructuring from labor-driven economic growth to productivity-driven economic
growth in Singapore over the last few years has led to losses of low-skilled jobs
resulting in a rise in structural unemployment.

To reduce structural unemployment, the government can provide education and

training directly, by setting up educational institutes, or indirectly, by giving subsidies
or tax incentives to firms to encourage them to send their workers for education and
training. Education and training will equip low-skilled workers who are unemployed
with the relevant skills and knowledge to find jobs in the expanding industries which
require high skills. However, due to the effort that has to be expended on the part of
the structurally unemployed workers who are mostly low-skilled, such measures may
not decrease structural unemployment significantly. The government can also engage
in protectionism to support declining industries to help them to phase out at a slower
rate. When this happens, low-skilled workers who are employed in the declining
industries will have more time to undergo education and training in order to acquire
the relevant skills and knowledge to find jobs in the expanding industries. However,
providing protection to declining industries may reduce the incentive for low-skilled
workers who are employed in the industries to acquire new skills and knowledge.
Furthermore, providing protection to declining industries will prolong the inefficient
use of resources in the economy which may hinder the development of comparative
advantage in new industries.

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Frictional Unemployment

Frictional unemployment refers to unemployment which occurs due to lack of

perfect information about the job market. Firms are not fully informed about the types
of labor available and workers are not fully informed about the types of jobs available.
In other words, although firms and workers have information about the job market,
the information is imperfect. Therefore, firms need time to find the most suitable
workers and workers need time to find the most suitable jobs. In other words, firms
and workers need time to explore the job market and this leads to frictional
unemployment. Frictional unemployment always exists.

The cause of frictional unemployment in Singapore is lack of perfect information

about the job market, which is the theoretical cause of frictional unemployment. This
is also true for other economies.

To reduce frictional unemployment, the government can set up job market

intermediaries to match firms searching for workers and workers searching for jobs.
Such job market intermediaries may be set up in the form of employment agencies or
job matching websites. The government may also organize job fairs which bring
together firms searching for workers to conduct a mass recruitment exercise. Job
market intermediaries and job fairs provide information about the job market to firms
searching for workers and workers searching for jobs which will reduce the searching
time. However, firms and workers may not be responsive as they may think that they
are better able to assess prospective employers and employees by themselves. If this
happens, setting up job market intermediaries and organizing job fairs may not lead to
a significant fall in frictional unemployment.

Seasonal Unemployment

Seasonal unemployment refers to unemployment which occurs due to the low

demand for certain types of labor during certain seasons of the year. For example,
some agricultural workers are unemployed during the off-harvest-season and some
construction workers and lifeguards are unemployed during winter. Seasonal
unemployment always exists. The solution to seasonal unemployment is the same as
the solution to structural unemployment. In reality, it is difficult to decrease seasonal
unemployment significantly because a large part of it is voluntary. However, seasonal
unemployment is usually insignificant and is hence rarely a matter of social concern.

Full Employment and Natural Unemployment

Full employment is the state of the economy where there is no demand-deficient

unemployment. When the economy is at full employment, there still exists
unemployment which comprises structural unemployment, frictional unemployment
and seasonal unemployment. Natural unemployment refers to the sum of structural
unemployment, frictional unemployment and seasonal unemployment. The natural
rate of unemployment in Singapore is estimated to be around 2 per cent. In the United
States, it is estimated to be around 5 per cent. In practice, to determine whether the
economy is at full employment, the government compares the actual rate of
unemployment and the natural rate. If the actual rate of unemployment is equal to the
natural rate, the economy is said to be at full employment. If the actual rate of

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unemployment is above the natural rate, the economy is said to be at below full
employment. If the actual rate of unemployment is below the natural rate, the
economy is said to be at above full employment. As there still exists unemployment
when the economy is at full employment, full employment is also called low
unemployment. Singapore has a record of low unemployment.

4.3 Costs and Benefits of Unemployment

Costs of Unemployment

High unemployment will cause the economy to lose a large amount of output
resulting in substantial productive inefficiency as a large amount of labor is not
employed in the production of goods and services. A substantial loss in national
output may lead to a large fall in the standard of living. High unemployment will
cause a large number of workers to lose income and often suffer a fall in morale and
self-confidence. Furthermore, if the unemployed workers remain jobless for a
prolonged period of time, they may lose their skills and knowledge which could make
it harder for them to gain employment. When unemployment is high, workers who are
employed will also suffer a fall in income in the form of a pay cut. High
unemployment will lead to a substantial fall in the purchasing power of households.
The resultant substantial fall in the demand for goods and services will cause firms to
lose a large amount of profit. When unemployment is high, the government will lose a
large amount of tax revenue. It may also need to increase expenditure on
unemployment benefits substantially. If this leads to a persistent budget deficit, the
public debt will rise persistently which may lead to adverse consequences such as a
higher tax burden on future generations. High unemployment may lead to high social
costs such as a high crime rate, a high divorce rate and a high suicide rate. In the event
of very high unemployment, social unrest could break out.

Benefits of Unemployment

Some workers leave their jobs in order to search for a better job. Although they
will suffer from temporary unemployment, they may experience a rise in income if
they manage to find better employment. If workers leave their jobs in order to search
for a better job, this may lead to a better match between workers and jobs which will
result in an increase labor productivity in the economy. Recall that labor productivity
refers to output per hour of labor. An increase in labor productivity in the economy
will lead to a fall in the cost of production in the economy resulting in an increase in
aggregate supply. When this happens, economic growth will rise which may reduce
unemployment, and inflation will fall which may improve the balance of payments. If
people are willing to bear with some unemployment, inflation may be kept at a low
rate. In contrast, the cost of eliminating unemployment may be an intolerably high
inflation rate. Recall that the inverse relationship between inflation and
unemployment can be shown with the short-run Phillips curve.

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